Progressive Corporation 2013 Q1 Form 10-Q Summary
Business context and reporting period
The Progressive Corporation is an insurance holding company focused primarily on personal auto, special lines, and commercial auto insurance. This unaudited Form 10-Q covers the three months ended March 31, 2013, compared primarily with the three months ended March 31, 2012 and December 31, 2012 balance-sheet amounts.
Key financial metrics
| Metric | Q1 2013 | Q1 2012 | Change |
|---|---|---|---|
| Total revenues | $4,437.2 million | $4,126.4 million | 8% |
| Net premiums earned | $4,179.3 million | $3,861.5 million | 8% |
| Investment income | $100.5 million | $114.7 million | (12%) |
| Net realized gains on securities | $80.6 million | $77.5 million | 4% |
| Income before taxes | $463.1 million | $384.1 million | 21% |
| Net income | $308.6 million | $257.6 million | 20% |
| Diluted earnings per share | $0.51 | $0.42 | 21% |
| Operating cash flow | $722.1 million | $708.4 million | 2% |
| Underwriting profit | $317.7 million | $228.7 million | 39% |
| Underwriting margin | 7.6% | 5.9% | +1.7 points |
| Combined ratio | 92.4% | 94.1% | Improved 1.7 points |
Net income represented approximately 7.0% of total revenue, while pretax income represented approximately 10.4%. The company reported $407.3 million of comprehensive income, down from $459.9 million, primarily because net unrealized investment gains were lower than in the prior-year quarter.
- At March 31, 2013, total assets were $23.54 billion, shareholders’ equity was $6.39 billion, and total liabilities were $17.15 billion.
- The investment portfolio was $17.30 billion at fair value, including $12.05 billion of fixed maturities, $2.11 billion of common equities, $820.6 million of nonredeemable preferred stocks, and $2.32 billion of short-term investments.
- Cash declined to $110.2 million from $179.1 million at year-end 2012, reflecting $570.6 million of investing outflows and $220.3 million of financing outflows, partly offset by operating cash generation.
- Debt was $2.06 billion at carrying value. Total capital, defined as debt plus equity, was approximately $8.5 billion, and debt-to-total-capital declined to 24.4% from 25.6% at December 31, 2012.
- The company paid $175.6 million of dividends and repurchased 2.3 million shares for $51.3 million during the quarter.
Material changes versus the prior comparable period
- Net premiums written increased 7%, with Personal Lines up 7% and Commercial Auto up 7%. Policies in force increased 2% companywide, including 2% in Personal Lines and 1% in Commercial Auto.
- Personal Lines underwriting profit increased to $302.1 million from $200.5 million, and its combined ratio improved to 91.9% from 94.2%.
- Commercial Auto underwriting profit declined to $15.3 million from $29.4 million; its combined ratio deteriorated to 96.5% from 92.4%, driven principally by unfavorable reserve development and higher claims frequency and severity.
- Investment income declined 12% to $100.5 million because of lower yields, although the portfolio generated a positive 2.1% fully taxable equivalent total return.
- Catastrophe losses increased to $46.2 million from $16.0 million, adding approximately 1.1 points to the combined ratio versus 0.4 points in the prior-year quarter.
- Unfavorable prior accident-year reserve development was $65.2 million, compared with $44.3 million in Q1 2012, contributing approximately 1.6 points to the current-quarter combined ratio.
- Net cash used in investing activities increased substantially to $570.6 million from $61.1 million, primarily because of greater purchases of fixed-maturity and short-term securities.
- The company revised the presentation of Q1 2012 fees and other revenues, reclassifying $65.2 million from other underwriting expenses to revenue. Management stated that the revision did not affect net income, comprehensive income, equity, or cash flows.
Guidance, outlook, commentary, risks, and unusual items
- Management’s underwriting profitability target is at least a 4% margin; the Q1 2013 margin of 7.6% exceeded that target. The company continues to evaluate rate needs in response to claims trends and expects rate increases to support earned premium per policy.
- Rate increases taken primarily in the second and third quarters of 2012 supported premium growth and underwriting improvement but contributed to lower new applications and reduced personal-auto policy life expectancy. Personal Lines new applications declined 12%, while Commercial Auto new applications declined 5%.
- The 2013 target percentage for Progressive’s annual variable dividend program remained 33⅓% of annual after-tax underwriting income. The year-to-date Gainshare factor was 1.15, but the final factor and any 2013 annual dividend remain dependent on full-year results and Board approval.
- The next scheduled debt maturity is the $150 million of 7% Notes due October 2013. Management stated that it expects sufficient capital, operating cash flow, and borrowing capacity to meet debt service, dividends, and other anticipated requirements.
- Progressive entered into a discretionary, unsecured $100 million line of credit with PNC Bank on March 25, 2013; there were no borrowings under the facility during March.
- Interest-rate swaps with a combined notional value of $1.263 billion were used to shorten portfolio duration. In April 2013, after quarter-end, the company closed those swaps, recognized $5.3 million of realized losses, and entered into three replacement 10-year swaps with $750 million of total notional value.
- The company expects to build 10 to 20 additional service centers over the next four years, at an estimated cost of $4 million to $6 million per center excluding land.
- Material risks include catastrophe losses and weather volatility, claims frequency and severity, unfavorable loss-reserve development, rate-approval timing, customer retention and competitive pricing, interest-rate and investment-market movements, credit and liquidity risk, litigation, regulatory changes, information-technology disruptions, and valuation or reserving-model uncertainty.
- Progressive disclosed various ordinary-course and other lawsuits involving claims handling, medical and injury benefits, policy documents, repair-shop labor rates, marketing, and related practices. Accruals are recorded when losses are probable and estimable; a substantial adverse judgment or settlement could materially affect results, liquidity, or financial condition.
Important facts for investors to verify
- Whether premium growth and the 7.6% underwriting margin persist after the benefit of prior rate increases is fully reflected in earned premiums.
- Whether personal-auto retention and new-business trends improve, particularly after the documented decline in policy life expectancy and applications.
- Whether Commercial Auto claims frequency, severity, and unfavorable reserve development stabilize.
- The effect of catastrophe activity and future weather events on loss ratios and capital needs.
- The sustainability of investment income as portfolio yields remain low and the contribution of realized investment gains varies.
- The maturity, refinancing, or repayment of the $150 million 7% Notes due October 2013 and the company’s use of available liquidity.
- The final 2013 Gainshare factor and any annual variable dividend declared by the Board.
- The valuation and credit performance of mortgage-backed securities, preferred stocks, corporate securities, and other investments, including $30.9 million of gross unrealized portfolio losses at March 31, 2013.
- The potential financial exposure from pending litigation and future changes in loss-reserve estimates.